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Options Question: Max Risk
- Thread starter CPTrader
- Start date
This is a good thread on how you can lose more money on long Call positions than your initial debt. Anyone who buys calls should read it.
http://www.elitetrader.com/vb/showthread.php?s=&threadid=51251
http://www.elitetrader.com/vb/showthread.php?s=&threadid=51251
Quote from MTE:
The obvious example is a 1x2 ratio spread (buy 1, sell 2). The premium on the 2 shorts may not be enough to cover the long hence you have a net debit to open the position, but the max loss is unlimited (well, for calls it is unlimited, for puts it's substantial).
So how can one determine ab initio his max risk; especially for a somewhat odd spread position e.g. an iron condor with wide strikes in an odd ratio say 3X1?/
Among other possibilities, if you diagonalize a bearish call spread and make the OTM strike the distant month, it can be for a debit and the loss can exceed the debit (debit paid plus the difference in strikes, if driven to parity by a big move).Please enlighten me....
I am guessing you are heading down the path of dividend risk,premature assignment etc..Do tell
Combine that with the mirror image on the put side and you end up with an Iron Condor (diagonalized), a familiar local strategy.
OK, I do telled.
On an expiration basis, it's fairly easy. If they're all from the same month, all options are zero if OTM, intrinsic value if ITM. You can set it up in a spreadsheet or use an option charting program.So how can one determine ab initio his max risk; especially for a somewhat odd spread position e.g. an iron condor with wide strikes in an odd ratio say 3X1?/
If any legs are diagonalized, it's a bit more complex as you'll need an option pricing model (program, spreadsheet) and you'll have to guestimate the future IV since at near term expiration, the far months will most likely have remaining time premium.
Quote from spindr0:
On an expiration basis, it's fairly easy. If they're all from the same month, all options are zero if OTM.
At this point it is very important to read the GOOG thread in the link above to understand the risk of an OTM option drifting into ITM - even by a nickle - during AH on Friday at expiration.
Most websites and books that mention a Call Debt Spread state that the Maximum Loss Potential is Net Debit , when in fact that is not true. In the GOOG example if the position was a Call Debt Spread the loss would have been: Net Debit plus $10,0000.